Conifer Holdings, Inc.
Q2 2018 Earnings Call Transcript

Published: 12 Aug 2018

[Operator:]

Good morning, and welcome to the Conifer Holdings Second Quarter 2018 Investor Conference Call. All participants will be in listen-only mode. [Operator Instructions]. After today's presentation, there will be an opportunity to ask questions. [Operator Instructions]. Please note this event is being recorded. I would now like to turn the conference over to Adam Prior of The Equity Group. Please go ahead.

[Adam Prior:]

Thank you and good morning everyone. Conifer issued its 2018 second quarter financial results after the close of market yesterday. On the company's website, ir.cnfrh.com, you can find copies of the earnings release as well as the slide presentation that accompanies management's discussion today. If you are looking at that presentation via webcast, you may find the slides are easier to read in the large slide view, which can be selected on the right-hand side of the webcast page. Before we get started, the company has asked that I note that except with respect to historical information, statements made in this conference call may constitute forward-looking statements within the meaning of the federal securities laws, including statements relating to trends, the company's operations and financial results, and the business and the products of the company and its subsidiaries. Actual results from Conifer may differ materially from the results anticipated in these forward-looking statements as a result of risks and uncertainties including those described from time-to-time in Conifer's filings with the SEC. Conifer specifically disclaims any obligation to update or revise any forward-looking statements, whether as a result of new information, future developments or otherwise. Also, a reconciliation of non-GAAP measures was provided with the news release. Statutory accounting data is prepared in accordance with statutory accounting rules and is therefore not reconciled to GAAP. We will conduct a Q&A session after management's prepared remarks this morning. And with that, I’ll turn the call over to Mr. Jim Petcoff, Chairman and Chief Executive Officer. Go ahead, Jim.

[James Petcoff:]

Thank you, Adam. Good morning, everyone. Joining us today is Nick Petcoff, Harold Meloche, and Brian Roney. Our second quarter results continued much of the natural shift and business mix towards our more profitable specialty lines, commercial lines, which grew over 18%. It is in these markets that we have a distinct value proposition and a clear focus on our bottom-line. Our interim results during the quarter were impacted by continuing win/losses in our personal lines which we will detail shortly. However, as we have mentioned in recent call, we have taken a proactive approach towards shifting business away from classes that do not meet our select underwriting criteria. In short, our long-term strategy remains sound as proven out mainly by solid results in our core commercial products. Historically, these specialty lines have consistently outperformed the industry over time and have become the largest portion of our business. Let me take a moment to highlight some of the details of our specific business mix toward commercial lines. Before Conifer's inception, we always sought to balance the premiums between commercial and personal. In this way, we enjoyed a successful history of managing both. In our past experience, balancing both has produced solid results for the shareholders across the market cycle. While our commercial lines have performed well above our expectations, within the wind-exposed component of our personal lines, specifically Florida and their specific challenges, results have not been as projected. As a result, over the past several years, we have been proactively managing our business mix shifting firmly towards the more profitable commercial lines while at the same time significantly deemphasizing our wind-exposed premiums. For example, our assumptions of Florida homeowners book has been in non-renewal since February. We’ve also been non-renewing our Hawaii homeowners book at the same time in order to balance the cat exposure. Additionally we’ve taken steps to reduce our exposure to Texas wind as well. While wind-exposed premium is noticeably down, our commitments to personal lines remain. Our focus has shifted to profitable low value dwellings business within our personal lines production and away from the wind-exposed business. Given marketing conditions in areas like Florida, for instance, we do not see the potential for profit at this time. Hence, for second quarter as part of our overall business mix, our personal line production is down considerably. But we do expect those premiums to start to ramp up over time in the low value dwelling area. In this way we are taking much of the current risk of Conifer’s results off the table by reducing the wind-exposed business. We’re firmly focusing on writing the profitable premiums, whether commercial or personal. As evidenced by the commercial lines growth in the quarter, we continue to see runway in both hospitality and small business. We are very encouraged by the growth in these lines in general and see that growth continuing as we move forward. Much of our success in that regard is because of the strong continuing agent relationships that we have, our platform, our brand recognition and because we offer a fully integrated packaged product that meets the customers’ needs. When you couple all these with our core commercial lines, we feel very good about our growth prospects, our general operating results and the trajectory of the top-line. With that, I would like to hand the call over the Nick for a breakdown of our individual underwriting markets.

[Nicholas Petcoff:]

Thank you, Jim. I’d echo your comments that a repositioning of our book and shifting business mix has continued to move forward as planned. We believe this highlights the strength of Conifer and that we’re able to successfully navigate specialty markets where other competitors may not. We feel this allows us flexibility to further penetrate our existing markets and move into new specialty markets when the time is right. In short, we have the ability to take advantage of business opportunities when they are most advantageous to us which is the benefit of being an efficient, nimble writer. In the second quarter, the shift towards our commercial lines business is quite evident. Commercial lines now represent 94% of our premium production. Our breakout within commercial lines has stayed very consistent, but as Jim mentioned, there are certainly lines where we’re achieving considerable success. Small business is certainly one of them and our core business remains the hospitality sector. We continue to grow our position as the largest writer of liquor liability insurance in Michigan and are expanding this expertise into other markets wherever possible by delivering the pricing and value of bundled packages to meet the needs of our agents and our customers. We continue to write in all 50 states and are increasing our market share with a focus in select Western states. As an example, we just received a surplus lines authority to write business in California which could be a very significant market for us as we increase our product offerings in the state. Our core commercial hospitality lines had a profitable premium and we are pleased with the underwriting performance in the quarter, especially for the hospitality business such as restaurant bars and taverns. Our quick service restaurant book has also continued to perform across for us. We have been underwriting these markets for years. And with our access in surplus lines flexibility, we believe we created value proposition that is distinct from our peers. Overall, we are very pleased with the expansion of our commercial lines business and we see considerable runway and for additional growth in our existing and new markets. We expect that Conifer will largely be defined in the near term by our underwriting performance in these specialty lines. Now, I’ll briefly touch on our personal lines strategy. While we have mentioned this several times throughout the year, it certainly bears repeating. In the third quarter of 2017, we executed an adverse development cover which was secured mainly due to the ongoing losses incurred by the Florida homeowners line of business. The adverse development cover we executed will protect against losses not only from Florida homeowners but from all lines of business for accident years 2005 through 2016. This has proved to be an effective implementation for us today. Our combined ratio has remained elevated in personal lines largely due to many factors in these coastal markets including greater than anticipate weather loss. As Jim mentioned, we began actively non-renewing our assumption Florida homeowners book in February of 2018 and this has continued throughout the year. The net impact of that gross written premium for all of our businesses generally has been flat for the quarter. But over time, we expect this will significantly improve our long-term profitability as a whole. And as a result of this non-renewal process, we expect gross written premiums in our personal lines will continue to decline in the near term. Personal lines were only 6% of our total written premiums in the period and those policies we did write in personal lines were largely focused on our low-value dwelling products in Texas and the Midwest and are at accessible pricing levels. As a result of our pullback in personal lines, we are continuing to drive profitability as we are reducing the overall wind footprint for Conifer to lower our reinsurance costs and retain more earned premium. The reduction in personal lines’ exposure should reduce the overall wind risk for Conifer and help reduce our overall cat spend going forward. Given the ongoing shift of our business mix toward our more profitable commercial lines, we like the long-term position we are in. At our size, we can move into markets where the competitive landscape is most favorable to Conifer. We think this gives us the most flexibility to take advantage of premium growth opportunities when and where appropriate. At this time, I’ll hand the call over to Harold Meloche to provide a brief discussion of the financials.

[Harold Meloche:]

Thank you, Nick. As the financial results and balance sheet information is fully detailed in our press release and quarterly filings, I will briefly go over a few highlights but welcome any specific questions during Q&A. Gross written premiums for the period overall were basically flat at $26.6 million. This was largely due to 74% decline in our personal lines offset by an 18% increase in our commercial lines. Net premiums earned for the second quarter decreased 2% to $23.9 million, which was largely due to additional ceded premiums and hurricane reinstatement cost and a new property reinsurance player that we believe will provide better loss protection. Conifer's combined ratio was 106% during the second quarter compared to 110.4% for the same period in 2017. Before the deferred gain from the ADC and hurricane-related costs, our combined ratio was 101% and we had pre-tax income of $82,000. The impact of prior year reserve development has been significantly reduced due to the benefits of the adverse development cover. However, we are required to defer an economic benefit of $980,000 of ceded losses under the ADC which was accounted for as a deferred gain. These ceded losses will be a benefit in future periods when we amortize the deferred gain into income. As of June 30, 2018 the company ceded $10.4 million under the ADC leaving $7.1 million of cover in the event of future development. The company's losses and loss adjustment expenses were $15.1 million in this quarter compared to $16.7 million in the prior year quarter. As a result, Conifer reported a considerably improved loss ratio of 62% compared to 67% in the prior year quarter. Before the deferred gain on the ADC and hurricane related costs, the loss ratio declines further in the quarter to 57%. Our expense ratio was approximately 44% this quarter compared to approximately 43% in prior year period. [We did] a number of cost reduction efforts and are generally pleased with our direction. Our expense ratio remained largely flat due to our continued repositioning of personal lines that has temporarily moderated our earned premium growth. For the second quarter, the company reported a net loss of $1.1 million or $0.13 per share. Our adjusted operating loss for the period which takes into account the deferred gain on losses ceded to our ADC was a $173,000, compared to $2.1 million in the prior year, a significant and noticeable improvement in our operating results. Moving to the balance sheet, total assets were approximately $227 million at quarter end with cash and total investments of over $157 million. We had $9.9 million valuation allowance against the company's deferred tax asset or $1.15 per share and deferred gain as a result of the ADC of $2.4 million or $0.28 per share. That represents a $1.44 per share that was not reflected in our $5.89 per share book value at quarter end. Our investments are conservatively managed in with the majority and fixed-income securities with an average credit quality of AA and average duration of approximately three years and a tax equivalent yield of 2.6%. And with that, I would like to turn it back over to Jim for closing remarks.

[James Petcoff:]

As we look at future periods, the progress we have made in expanding our presence in our core specialty commercial markets is significant. We are pleased with the 18% growth in the second quarter in the commercial lines. We have the infrastructure in place that will allow the company to simultaneously grow in our specialty markets without adding significant additional costs. And now, we’re ready to take some questions. Operator?

[Operator:]

[Operator Instructions]. The first question comes from Greg Peters with Raymond James. Please go ahead.

[Greg Peters:]

I wanted to focus my question around your commercial lines business and I know you’ve talked a little bit about this in your prepared remarks. You’re showing nice growth on a net written basis. And -- but I've also -- you also acknowledged that the -- your combined ratio has moved up considerably on quarter-over-quarter and year-over-year basis. So I was hoping maybe you could position that as we think about how the business might grow and perform in the future in the context of what we're seeing here in the second quarter and year-to-date results?

[James Petcoff:]

Sure. I want to take issue a little bit with your comment about the accident year loss ratio. The accident year loss ratio is improving year-over-year. It’s still -- on a GAAP basis, we don't get credit for the ADC which is driving up the loss ratio for the quarter but on a accident year basis it’s significantly improved.

[Greg Peters:]

I’m sorry, Jim I meant I was referring to the accident year combined ratio but embedded in that is the loss ratio. So I get what you’re saying.

[James Petcoff:]

Okay. In this particular quarter though Greg, we had -- because of the significant shift from personal lines to commercial, the commission portion of the business that’s on the books now is higher due to the fact that the commissions for the commercial lines is higher than what we're paying on the Florida personal lines, okay? So that shift has moved the expense ratio up a blip. The reality is on the overall overhead expense is significantly lower than it was a year ago and as a component of the expenses ratio. We are moving in the right direction. And by the way a lot of the business we have written -- a big portion of the increase this year has been in the quick service restaurant, which carries a higher expense cost. It shows up in the commission that we have upfront on that business which drives up the expense ratio. That’s the negative side of it. The positive side is the accident year loss ratio continues to go down. And we are seeing considerable traction in the hospitability business, not just the quick service restaurant but in our core hospitality business moving into California and getting life and surplus lines there is a big jump for us. We do have underwriting expertise in California and -- on the ground -- boots on the ground out there. So we are very confident that we will grow slowly there as being a new market, but we think that long-term that will be a good move for us. So we continue -- and as the premiums grow, and we are growing our premiums in the personal lines in the low value area which has a combined ratio that’s significantly better than the Florida and wind-exposed, driving -- so that’s actually driving a profit. So as we move forward and we can get off of this, the Florida business, we see the accident year loss ratios continue to go down. Our overhead is from a dollar value -- a dollar actual cash out the door is continuing to move in the right direction. Therefore, reducing the percentage on the expense ratio and as we grow the premium that can be -- expense ratios should continue to go down. So when you get the combined ratio the accident year loss ratios are improving and the operating portion of the expense ratio is improving. The commission shift and the fact that there was a lot of quick service restaurant that was fronted and you add the additional points out for the front fee caused the expense ratio to blip up.

[Greg Peters:]

Maybe you can just touch on -- and this is my last question, touch on just pricing, with the growth and you are talking about the new markets et cetera, how is your view on the pricing of these products? You are showing nice growth, so it begs a question, are you underpricing the market, is it a competitive market? Or I think the answer is going to be focused on your carved outs and niche opportunities but I’m going to throw it to you to get your perspective.

[James Petcoff:]

I’m going to let Nick comment after I make a comment on the pricing. When we enter these new markets we now have a stable book of business and we are now renewing $100 million give or take or $100 million plus of commercial lines that we have been on for a couple of years. So we know the pricing in these markets. We made the underwriting changes over the last few years to improve upon the loss ratio side of that and we have continued to grow our claims department in those specific areas where we are now profitable. So on the pricing side of this, yes, you would in general think that if you’re going to write business you have to be at or below market price, I agree with you. But we were writing where the problems we have experienced, a lot of it had come in the commercial property area which is pretty -- is more volatile than the liability. We think we very -- we’re much more focused on the claims side than the underwriting side, on the liability area. So we think that from a pricing standpoint we’re getting adequate price in these new areas where we’re not going to write it. We’re not looking for growth for growth sake. We’re looking for growth to improve our bottom-line. So Nick what do you say on pricing?

[Nicholas Petcoff:]

Yes. And pricing on the GL and liquor side, we’re flat year-over-year. We’ve seen a lot of the growth on -- yes there have been some new territories but a lot of the growth has been in states that have been very profitable for us and we’ve taken rate in the less profitable states. So while there is growth, and we did mention California as a new state, a lot of the growth has been in states that we’ve been in for maybe 12 months to 18 months. So we feel like we’ve gotten some history there and we haven't seen emergence like we saw in some of the more problematic states where we’ve taken rate increases. So while there is growth it’s not all in new markets and in a lot of existing markets as well.

[Operator:]

[Operator Instructions]. I am showing no further questions in the queue. This concludes our question-and-answer session. I would like to turn the conference back over to Jim Petcoff for any closing remarks.

[James Petcoff:]

I want to thank Greg for asking some detailed, insightful questions because getting to the core of what we’re doing is important. I want everybody to understand that. We feel confident in the growth areas that we have and that we’re in our core businesses and we now have a stable book to build off of and we are not taking the risk of writing things just to write things. We’re going to grow this on a measured basis and a profitable basis. And I appreciate the questions, Greg. And I want to thank everybody for continuing to follow us. We think we have good things in the future, and we look forward to the next call.

[Operator:]

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.